Your personal credit is one of the most important aspects of your financial life. It can determine whether you are able to borrow money for a car or home and what interest rates you will pay on that debt. This guide will outline the basics of personal credit- including personal loans, credit cards, and mortgages. We will also discuss how each type of borrowing works and when it is best to use each type. Finally, we will help you find the right mortgage for your needs with Integrity Mortgage, LLC (NMLS #1692497)!

What Is Personal Credit?

Personal credit is the information associated with your personal financial history, such as your payment history on loans and credit cards, any bankruptcies or legal judgments against you, and other factors. This information helps lenders decide if they want to take a risk lending money to you. The better your credit management and history, the higher your personal credit score will be.  This personal credit score is reported to lenders by credit bureaus, and the higher it is, the more likely it is that you will qualify for a credit card, personal loan, or mortgage.

What Are Credit Cards, and How Do They Work?

Credit cards are a type of personal borrowing that is used to make purchases and can often be used like cash. Credit cards come with a predetermined credit limit, as set by the issuer, up to which you can use your card. When you use your credit card to make a purchase, you do not need to pay off the full amount right away, but you will be charged interest on the remaining balance on your card every month with most credit cards.  

Credit cards are also an excellent way to build your personal credit since they strongly impact your credit score.  If you have credit cards and keep up with your payments, you will build a history of regular payments that credit bureaus look at to determine your creditworthiness. 

What Should You Use Credit Cards For?

There are many ways to use credit cards, as they’re one of the most flexible forms of credit available to individuals.  Since credit cards can be used in so many different ways, it’s most important that you’re using them responsibly, and are able to pay off most or all of your balance every month, to minimize your interest fees.

Here are some common uses of credit cards:

• Purchasing groceries, gas, and meals at restaurants
  In fact, some credit cards provide bonus rewards for these purchases, making it even more appealing to use a credit card.  Just remember to budget according to your real spending power (your income), even if you’re buying with a credit card.
• Paying For Utilities
  Traditionally, paying your utilities doesn’t have an impact on your credit score, but if you use credit to pay for your utilities and then pay off the credit card either manually or with automatic payments, you can add more predictability to your variable utilities, collect reward points, and build a more compelling credit history at no additional cost.  This is especially good for consumers who live paycheck to paycheck because it gives them more flexibility and control regarding when money comes out of their bank account. 
• Holiday Shopping
  Many American consumers use their credit cards to do their expensive grocery and gift shopping for Thanksgiving and Christmas and gradually pay the balance off over the course of the year.  This is not a best practice, as it invariably results in interest fees unless you can pay off the total quickly.  If you can pay it off quickly, rewards points and incentives can help to make this a good strategy for credit card use.

What Are Personal Loans, and How Do They Work?

Personal loans are another type of personal borrowing that is used for a variety of purposes. They typically involve borrowing money in a lump sum from a lender and signing a contract to repay the loan back in regular installments over an agreed-upon period, with interest. The amount you can borrow and the terms of repayment depend on your creditworthiness, income, and other factors.  

Unlike credit cards, personal loans often are assigned specific uses, which can affect how much you’re permitted to borrow.  For example, a personal loan to finance a vacation or another luxury is typically going to have a lower acceptable credit limit than a personal loan used to purchase a car since a car is an asset most people need to earn their income.

Similar to most credit cards, personal loans usually do not require any collateral.  Some personal loans, like car loans, might be tied to the assets they’re used to purchase.  In these cases, repossession of purchased assets can result from defaulting on payment.

What Should You Use Personal Loans For?

Personal loans usually have fixed terms and interest, this means they’re well suited to larger purchases than credit cards are.  Since you know how much you’re going to owe every month, it’s easier to budget and keep personal loan debt under control for most consumers.

Here are common uses for personal loans:

• Purchasing a vehicle
  Most people can’t afford to purchase a new (or even a used) vehicle with cash out of pocket.  This is why credit unions, banks, and online lenders often offer specialized personal loans (commonly called “car loans”) for buying vehicles.  Terms vary but are usually 3 to 10 years long with regular monthly or weekly payments. This is often the first significant loan a young borrower gets, as most jobs require transportation.

• Consolidating credit card debt
  Because personal loans usually have fixed interest and terms, they can be much easier to pay off than credit cards that get away from borrowers.  This can also have a rapid positive impact on the borrower’s personal credit score since their active total credit limit is increased by the total amount of the personal loan, and the credit cards are paid off at the same time.

• Financing home improvements
  For smaller home or business improvement projects, a personal loan might make more sense than a home equity line of credit or business loan.  This is especially true for improvements that result in significant savings, such as insulating, installing a solar power system, or another cost-saving improvement.  

• Covering major one-time expenses
  In recent years, taking out a personal loan to cover the cost of a wedding, unexpected medical bills, financing a vacation, or other one-time costs you are struggling with has become more common.  This isn’t generally advised except as debt consolidation for unavoidable expenses.

What Are Mortgages, and How Do They Work?

Mortgages are a type of personal borrowing that is used to purchase a home. Mortgages typically involve taking out a large loan secured against the value of the property being purchased. The amount that can be borrowed depends on various factors, such as your creditworthiness, income, and debt-to-income ratio. 

The terms of repayment vary, but most mortgages are between 10 and 30 years.  Interest rates can be locked in (fixed-rate mortgage) at the time of the loan, or they can be variable, tied to the prime interest rate (variable-rate mortgage). With fixed-rate mortgages, you have a very predictable monthly fee for repaying your loan.  A fixed-rate mortgage is generally preferable for most home buyers.

What Should You Use Mortgages For?

Unlike other forms of personal credit, mortgages are used for just one purpose: buying a property.  Where the variation comes in is the type of property being purchased.

Here are common types of property to purchase using a mortgage:

• Buying your first home
  It’s extremely unusual for someone to be able to buy their first home without a mortgage.  This is, by far, the most common way for an individual to use a mortgage overall.

• Buying an Investment property
  Mortgages can be used to purchase properties with commercial or investment value.  One of the most common examples is financing a multi-family home to both live in and rent out units.  The increased income associated with this type of property makes it easier to qualify for a larger mortgage.
• Buying land
  Mortgages can be used to purchase land.  This is typically done in order to facilitate building a house, though a mortgage can technically be used to purchase a lot for another purpose.  Lenders often restrict this buying category more than purchasing completed buildings due to the extra risk involved.

How to Get a Great Mortgage

Getting a great mortgage is a matter of having a good credit score, having your debt under control, having a good income, and finding the right lender.  At Integrity Mortgage, we are always striving to be the best mortgage lender in Maine.  Reach out today to learn how we can help you to get a great mortgage for your next real estate purchase.